IMF warns on overvalued housing

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Australian house prices could be overvalued by up to 20 per cent, the International Monetary Fund has warned.

In its latest report on the world economy, the IMF said big house price rises in recent years could not be justified on "fundamental" grounds, suggesting the market may have some way to fall.

The Reserve Bank also warned that the property boom had the potential to derail the economy, with families continuing to rack up debt at an unsustainable rate.

In its twice yearly assessment of Australia's financial stability, the Reserve said the orderly slowdown it had hoped for appeared to be under way. But it suggested the market still had the potential to turn nasty.

"A pronounced fall in house prices or a deterioration in economic conditions could prompt a broad reassessment by the household sector of the structure of its balance sheet, leading to a sharp fall in credit growth and a period of unusually weak consumption," the report said.

By most measures, average house prices fell in the first half of this year. Household borrowing also eased, with housing credit slipping from an annual rate of 21 per cent to 16 per cent, a rate that is still strong by historical standards.

The Reserve said the combination of strong borrowing and falling house prices over the past six months had increased exposure to debt, with the ratio of household debt to assets hitting a record 17 per cent, compared with 9 per cent in 1990.

The IMF said Australian house prices were third highest on a list of 11 nations when measured as a proportion of household income, behind only Spain and the Netherlands.

Prices had surged to a level that could not be explained by factors such as interest rates, population growth, disposable income and credit growth.

"House prices in Australia, Ireland, Spain and the United Kingdom exceed their predicted values by 10 to 20 per cent - thus suggesting that the sharp increase in prices observed in these countries over seven years cannot be explained by movements in fundamentals alone," the report said.

Most economists believe the housing market is headed for a soft landing, with prices unlikely to crash. Interest rates have not risen since last year. Most analysts predict another increase this year or next, regardless of who wins the election.

Campaigning in the marginal Liberal seat of Eden-Monaro yesterday, Treasurer Peter Costello said he had repeatedly warned that the housing market was unsustainable.

"A big part of economic management over the next two years is going to be managing the housing cycle, making sure that the housing cycle plateaus but doesn't crash," he said.

"Those people that think that all of the problems of the Australian economy have now been fixed ought to be very wary. There are big problems out there for Australia still, which are going to require disciplined economic management."